Source: The Boyd Group
Author: Michael Boyd

Let's call it the "kennel effect" - one dog starts barking, the rest of the dogs follow along. They have no idea why they're doing it, except that everybody else is.

That pretty much describes the current buzz about airline mergers. The media hounds are howling, mostly at the moon, and mostly just because they read it somewhere else. A while back, it came out that an executive at US Airways may have mentioned the subject to the CEO at Delta, and the headlines start flying...

Delta And USAirways Exploring Consolidation

This, despite the fact that the CEO of Delta has made it clear that he believes that mergers aren't an answer, nor are they positive. But one story becomes the source for another, and before long, "everybody Knows" that airline mergers are "necessary" and "inevitable."

Neither is accurate.

Always Less, Not More. The first is that mergers always result in less than the sum of the original parts. Less service. Fewer flights. Less employment. Less competition.

That's notwithstanding the clear indications that some of the hounds on Wall Street are hyping the "need" and the "benefits" of mergers, making inane comments like, "...the two route systems between X Airlines and Y Airlines fit incredibly well..." Leaving out the fact that merging fleets, training programs, parts, maintenance programs, and union seniority lists can largely or completely eliminate the supposed wonderful route synergies that a merger between any large airline system supposedly would bring. But it's Wall Street and the financial types that make the big bucks in merger deals. Employees and the public pay the price.

Then there's the "shareholder value" issue that can push mergers. It's a dodge that generally means artificially increasing the stock price for a quick, short-term gain. Airline boards may very well jump at any concocted merger deal on this basis. Unfortunately, one can argue that that's the correct objective for a board of directors - get the stock ticker to go up. But when it entails literally trashing an airline system to the detriment of employees and consumers, the morality of the "shareholder value" argument gets iffy.

HP/US Is A One-Off. This is not to say that combinations of smaller players - such as the America West buy of USAirways assets - and where there is little overlap, can't work, at least on paper. But combinations of major airline systems, such as United with Continental, have lots of overlap - and lots of non-synergies that would offset the mystical revenue synergies that the people who make the bucks will be touting.

But let's go over some of the nonsense that's being spouted to support mergers:

"There's too much capacity." That was the Wall Street mantra in the past. Today, major airline systems are reporting in with 80%+ load factors, which means airplanes are essentially full. That's certainly not an indication of "over-capacity." That means that if there is a meaningful reduction in capacity resulting from a merger, it would limit the "product" for sale, and, according to theory, allow carriers to carry fewer people, but at higher fares.

Sounds good, but not only is it detrimental to competition, but it's also sheer nonsense. In fact, past mergers have done little or nothing to reduce seats in the high-density markets where "over-capacity" supposedly exists. Even the GAO found this. But they have done wonders to eliminate capacity and competition at smaller airports.

"When The Economy Cools, Then We'll Need Mergers." Watch for some merger proponents to claim that in the event of an economic downturn, we will again see over-capacity. What they'll leave out is that, contrary to past downturns, most major airline systems today have capacity "safety valves" in the form of excess lift that can be pulled-down relatively cheaply and quickly.

American has a large fleet of MD-80s which have reasonably low ownership costs. Northwest has about 100 DC-9s with almost no ownership costs. Virtually all mega-carriers have the ability to reduce the number of RJs they lease. Unlike LCCs, most of the comprehensive network carriers (what some still call "legacy" airlines) do not have huge amounts of net-new capacity on order.

"It will make the combined carrier a stronger competitor." Sure. Like what it did for TWA when they bought Ozark. Or when USAirways bought Piedmont. Or when American bought Reno.

"Airlines are financially troubled. Mergers will strengthen them." Even at current high oil prices, major airline systems are actually making operating profits. So the "failing airline doctrine" really doesn't apply. It may have been relevant to the HP/US deal, where overlap was minimal and the USAirways system was a step ahead of the Grim Reaper, but is isn't in regard to any combination of major carrier systems.

"The synergies will be enormous." Fuggetabuoudit. Take a Ford engine, combine it with a GM Hydromatic transmission, attach a Toyota rear end, and a Volkswagen ignition system. What you end up with is the modern equivalent of a shiny new '57 Hudson. Might look great, but nothing's going to work well or efficiently. That's pretty much what a mega-carrier merger would produce.The combination of the operating systems will essentially prevent most areas of cost-saving for years after the merger.

Facts, Not Lore, Regarding Mergers. There are three points that need to be kept solidly in mind in the coming blizzard of sunshine stories that will be carefully-fed to the media regarding airline mergers.

Always Less, Not More. The first is that mergers always result in less than the sum of the original parts. Less service. Fewer flights. Less employment. Less competition.

Smaller Communities Get Hit. When the dust settles, it's the small and mid-size communities that get zapped with less service.

Over Time, Market Presence Evaporates. The poster child for this was the PSA/USAir merger. Within about five years, USAir had essentially nothing to show for the money it squandered on the deal. American bought AirCal. Poof! They opened a hub at SJC and today have dukey to show for their efforts.